Making financial decisions is always easy — after the fact. And 2007 presented consumers with no shortage of challenges, from a flat...
Making financial decisions is always easy — after the fact.
And 2007 presented consumers with no shortage of challenges, from a flat housing market to a stock-market roller coaster.
If you’re like most people, you probably made a few money moves that already have you kicking yourself. Odds are you probably avoided a few financial potholes, too.
Curious how well you did overall?
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Here are some of the best and worst moves for 2007 in 10 different areas, from mortgages to taxes:
Best move: You snagged a good buy with plans to hold on to it. If you had the good credit to get a prime-rate loan and you want to hang onto the house for a while, 2007 was a great time to buy.
The big winners: People who bought in markets where the monthly after-tax costs were roughly the same as rent, says Eric Tyson, author of “Personal Finance for Dummies.” What they gained: a place to live (or rent out for cash), plus long-term appreciation.
Worst move: You got in over your head or went subprime. Too many people focused on getting into a house, rather than shopping for terms that would allow them to stay in their new home. They signed up for mortgages with terms and conditions they just couldn’t meet. Adjustable-rate mortgages, with escalating payments, have been a nasty surprise to many.
“People don’t like to stop and think, ‘How high could my interest rate go?’ ” Tyson says.
Ask yourself, “What’s the worst-case scenario, and can I handle it?’ ” says Tyson.
Some buyers settled for subprime mortgages when they could have qualified for prime-rate loans, says Ren Essene, research analyst with the Joint Center for Housing Studies at Harvard University. Once there, higher rates and less-advantageous terms make it difficult to build equity and “you’re stuck in the subprime channel,” she says.
Checking & savings
Best move: Found an account matching your money habits. To get the best deal, look at the way you use the account, along with the fee schedule, so you get the true measure of what you’re earning, says Mark Oleson, director of the Office for Financial Success at the University of Missouri-Columbia.
Worst move: Didn’t track spending and racked up overdrafts. Americans had $17.5 billion in overdraft fees last year, according to estimates from the Center for Responsible Lending. The average fee paid for each overdraft was $34.
The single leading cause? The debit card, says Eric Halperin, director of the center’s Washington, D.C., office. Overdraft fees have “made debit-card usage incredibly expensive,” he says.
Debit-card users often don’t note every transaction. And some transactions have hidden fees or may trigger a freeze for a larger amount that isn’t disclosed. In many cases, transactions are approved whether or not there is a balance to cover the purchase.
You need a cheaper way to cover overdrafts. You can arrange for an automatic transfer from a savings account or even a line of credit. Many institutions don’t charge transfer fees (shop around), and those that do average $10 to $15, Halperin says.
Best move: You carried cards, not balances.
There are benefits to using credit cards in some situations. If you’re buying merchandise that will be delivered at a later date, credit cards give you ample dispute rights if the item isn’t what you expected.
If you’re shopping or traveling, cards can be safer than cash because if they’re lost or stolen, your losses are limited.
In places like restaurants, gas stations or hotels, you don’t run the risk of having a hold put on your bank account for more than your purchase amount, as you do with a debit card. In some cases, you can earn benefits like discounts, points, miles or cash.
But cards are another way to pay, not something you reach for when you can’t afford to buy in the first place. When you carry a balance, any financial benefit — like miles or points — is out the window.
Worst move: You paid the minimum on your credit cards.
One of the biggest problems consumers faced? Too much debt and not enough savings, says Ira Rheingold, executive director and general counsel of the National Association of Consumer Advocates. As a result, when emergencies come up, people reach for the plastic.
“What 2007 will teach people is not to buy things they can’t afford,” he says.
It’s like your retirement account in reverse, and that compound interest really adds up. With minimum payments, “the amount of debt you have is going to grow, and grow greatly,” Rheingold says.
Best move: Paid down your mortgage. “Smart people were paying down their mortgage debt,” Tyson says.
Exotic mortgages, low down-payment options and slowing housing appreciation meant less equity stashed away in Americans’ homes. That meant less of an equity safety net for homeowners.
Extra money toward that principal is money in the bank, says Tyson. Not only can it save you thousands in interest, but no matter what the home market does, you’ll have equity to tap if you need it.
Putting extra into the loan, rather than for other expenses like savings, is “a very personal decision,” says Tyson. “But paying down debt can be a liberating thing and it certainly reduces your stress level.”
Worst move: Drained home equity for everyday expenses.
Costs have gone up. Salaries and savings haven’t. So a lot of homeowners tapped equity with a loan or line of credit to cover incidentals like gas, credit cards or even vacations.
What made it especially lethal in 2007: Many homeowners assumed escalating home values would keep funding their equity piggy banks. But when home values leveled off, homeowners realized equity was a finite resource.
“There are people out there suffering from spending too much,” says Tyson.
Occasionally, tapping your equity can be a good idea. For true emergencies, like medical expenses, or long-term goals like college tuition, equity can be a cheaper source of money than other loans. But you need to shop carefully to make sure it’s your best move.
Best move: Kept your health coverage, despite rising costs.
Premiums are skyrocketing. Some businesses are ending coverage; others want workers to pay more. Employees, who are paying more in other areas of life — like home heating and gasoline — are struggling to make ends meet.
So if you kept up coverage, congratulate yourself. When it comes to economizing, health insurance isn’t the place to cut. Because of pre-existing condition exclusions, it can be more difficult to pick up a policy once you’ve dropped coverage. And, should you be without it at the wrong time, one major accident or illness can wipe you out financially.
Worst move: Got a one-size-fits-all homeowners policy. Your standard homeowners policy doesn’t cover every risk. Sometimes the biggest dangers in your area are not included.
Likewise, a standard contents policy probably won’t cover everything you own.
So you have to personalize the policies to your home and belongings. Get special coverage for risks to your area, like floods or earthquakes. Make sure that common mishaps, like sewer or drain backups, are addressed.
Best move: Got a dirt-cheap consolidation. The rules for consolidating federal student loans changed this year when the government reduced subsidies to lenders. Until then, many lenders were passing on those breaks to students in the form of borrower benefits.
Before Oct. 1, if the consolidation rate was 4.25 percent, students could get it down to 3 percent by paying on time and setting up an automatic bank draft, says Oleson. You could get it down to “1.75 percent to 2 percent, if you shopped around,” he adds.
After the rule change, a realistic consolidation rate would be closer to 4 to 4.25 percent, even with automatic bank drafts and on-time payments, he says.
If you missed the deadline, check out state consolidation programs, which often offer better rates, Oleson says.
Worst move: Got a private loan and ignored the fine print.
When you need more for tuition, books or living expenses than you expected, private loans can look tempting. While some private student loans are great, a lot depends on the contract’s fine print.
Because the products are marketed as student loans, students think they must be a good deal, says Oleson. “But in many cases, they’re not,” he says.
Private student loans “can be very beneficial to some, if you need them,” says Doug Borkowski, director of the Iowa State University financial-counseling clinic. The key is to know exactly how much debt you can comfortably carry.
CDs & investments
Best move: Laddered your CDs to smooth out rates.
When it comes to fixed-income investing, there are two things to avoid. One is being “long and wrong” — buying long-term investments when interest rates are low so you’re locked in as rates increase.
The other is trying to time the market. The experts can’t do it. You probably can’t either.
By laddering your CDs, you avoid both problems. And as interest rates headed down late in 2007 after the Fed cut rates, you look even smarter.
Worst move: You reacted to every blip of the stock market.
The stock market hit a couple of wild highs and lows this year. As many investors learned during the dot-com era, it’s not financially healthy to “swing between panic and euphoria” every time it dips or climbs, says Kathleen Miller, certified financial planner and president of Miller Advisors in Kirkland.
Reacting after the market, when everyone else is doing the same thing, is also a good way to make sure you buy high and sell low — the opposite of a smart investment.
The better strategy to deal with the stock market: diversify, use asset allocation and rebalance at regular set intervals.
Then turn off the market reports “and stop being jerked around,” Miller says. “Go back to the basics of, ‘Why am I investing?’ “
Best move: Shopped for the loan like you shopped for the car.
While people have become more sophisticated at haggling over the price of the car, “they don’t understand that the same thing goes on in the financing department,” says Rheingold. “A lot of times dealers make a lot more money on financing than on the car,” he says.
The smart money move: Shop banks and credit unions for the best deal on a loan, and go to the dealership with your financing already in place.
Worst move: Bought a car with a checkered past.
Running a car’s history isn’t enough these days to make sure you don’t get a “flood” car or a rebuilt wreck, says Rheingold. Legislators are considering a national auto registry, he says.
“It would have all the information consumers need” to check out a car before they buy. “And it would not allow the ‘title washing’ we’re seeing when cars move from state to state.”
Your best assurance the car you want really is a sweet deal? An independent mechanic’s exam.
Best move: You opened a Roth IRA. With Roth accounts, you deposit after-tax money. But you pay no taxes on retirement withdrawals. So the trade-off is taxes now vs. taxes later.
That’s a no-brainer, says Ed Slott, CPA and author of “Parlay Your IRA into a Family Fortune.” “It’s better to pay taxes now while we’re at relatively low rates,” he says.
With a traditional IRA, the mistake most people make is thinking they are “saving money by getting a tax deduction,” he says. Instead, they are just postponing the tax bill until retirement, when rates might be higher.
“Taxes will have to go up at some point to pay for the coming financial crisis,” he says.
Worst move: You didn’t contribute to any retirement account. With a tight economy, adjustable-rate mortgage payments and gas prices climbing, families are stretching to cover expanding expenses with nonexpanding incomes.
One of the first casualties: retirement savings. That means you miss the compounding interest that makes the money grow.
With a 401(k), “if you didn’t do it, that opportunity’s lost,” says Barry Picker, a CPA with Picker, Weinberg & Auerbach.
With an IRA, you can still put money in for 2007 before next April 15. That’s important because at 7 percent, $4,000 this year will turn into more than $32,000 in 30 years.
Best move: Reduced your tax burden with capital losses. If you did take a bath in the market this year, there is a bit of a silver lining. You can sell the stocks, and declare the losses on your taxes.
“If you did get hit when the market was volatile, you may want to sell and take the losses,” says Barry Picker, a CPA with Picker, Weinberg & Auerbach. “It may reduce your tax burden by year’s end.”
Worst move: Cracked open your retirement piggy bank early. What’s worse than not contributing to your retirement account? Taking money out before retirement.
If you did it this year, you’re not alone, but it comes with a cost. Besides the you’re-just-stealing-from-yourself line, you also face a 10 percent penalty for taking money before the age of 59-½. With IRAs, it can be allowed in some special situations, such as paying for school or buying a first home.
With 401(k)s, you may have some options if you were laid off, but you need to talk with a tax pro.
While desperate times call for desperate measures, put this one at the bottom of the list. “Leave it alone,” says Picker.